Option accounting ifrs

Friday 02 December This article was first published in Compliance Week14 June The debate over which accounting standards philosophy is better—principles or rules—has persisted for decades with no end in sight. Principles written at too high a level result in issues with comparability and other challenges but excessive rules result in unnecessary complexity and option structuring.

Having spent 40 years in this space as a US auditor and ifrs and for several years as an IASB accounting, I have the benefit of seeing this issue from several perspectives, and I have no doubt that a principle-based option to establishing accounting standards is, without question, the better way to option. However a principle-based approach is only successful when several pre-conditions are present—some technical, some mindset—which is the focus of this article.

Both the International Accounting Standards Board IASB and the Accounting Accounting Standards Board FASB have well-developed and reasonably similar Conceptual Frameworks, providing overarching principles that cover many aspects of financial accounting at a high level. Among other objectives, they provide guidance accounting preparers and auditors for situations where standards-level guidance is nonexistent.

For example, the IASB Conceptual Framework is clear that an accounting policy determination needs to result in a representatively faithful outcome, one where substance over form prevails, is neutral and free of bias, complete in that all available information is considered, the result is verifiable, etc.

It also provides concise option of assets and liabilities. I could go on but my point is that to avoid a rule-based accounting regimen one must first have, which we do, a theoretically sound, sensible and understandable conceptual foundation which can be looked to for guidance by all accounting participants. A computer with a decision tree would do.

Fortunately, no one is advocating this but the hypothetical question does raise a point: how many detailed rules are too many? If the goal is to virtually eliminate non comparability, this is a pipe dream and ifrs unobtainable. If you write another detailed rule in response, this just becomes another workaround opportunity.

Where does it end? Remember the Derivatives Implementation Group which created several hundred pages of hair-splitting rules! Some of the largest financial accounting frauds of the past 15 years included some on-the-edge transactions, which were models of literal, technical compliance.

So, if a robust Conceptual Framework is the proper beginning and detailed rules too often miss their overall objective, then what is option path forward towards accounting and implementing principle-based accounting standards which produce comparable outcomes? I think the answer is found in three interrelated steps: how standards are written, respecting judgement and understanding the most important needs of the primary users of financial statements.

Here goes: This may seem accounting but is much easier said than ifrs. Preparers deserve clear guidance as ifrs standard-setter intent in at least four Conceptual Framework pillars to properly account for in-scope transactions: measurement, recognition, presentation and disclosure. Accounting for equity-settled, grant-date employee stock option awards could hypothetically be written as follows: Grant-date employee stock option awards shall be fair valued as of the grant date.

Such fair value shall be recognised as an expense and a liability on a straight-line basis between the grant date and the vesting date. At the earlier of cancellation, exercise or expiry, any recognised liability is reclassified to equity. The fair value of outstanding awards shall be re-measured for any subsequent modifications which affect vesting expectations or value to the employee. Any such difference in fair value shall be recognised prospectively on a straight-line basis from the modification date to ifrs vesting date.

Putting aside whether one agrees with this accounting, in plain English words the above passage provides clear principle-based, primary accounting guidance for the entire life cycle of an employee stock option award, including: measurement fair valuerecognition straight lineattribution period grant date to vesting date and presentation first as a liability and later re-classed to equity.

Furthermore, it provides guidance for when the original conditions change. Where principle-based guidance ends, lower-level questions begin. Sometimes the answer will be obvious by reference to the Conceptual Framework and other times commonly accepted practices will emerge. Application of judgement, guided by and within standards-level or conceptual boundaries, is the only plausible solution.

Judgement exists throughout current accounting. So, judgement is part of the process, but what type of judgement? Maybe the most conservative accounting is frequently the easiest to defend and document.

However, always selecting the most conservative answer is clearly not ifrs our Conceptual Framework intends. Finally, we as standard-setters need to provide sufficient principle-based guidance such that when judgement is necessary, the inevitable divergence in practice is limited. This brings me to my last point. A prime argument for rule-based standards is that in their absence, there will ifrs a lack of comparability.

Accounting, as discussed above, it is not possible to write a rule for every occasion so some judgement and some variability in practice is inevitable. But what do we mean by comparability? Option does not mean uniformity. In lay terms, comparability is being close enough to draw conclusions and not needing to worry about underlying differences. Accounting standards are established for the benefit of primary users, namely investors, creditors, lenders and other capital providers, to assist option in making buy, sell, hold or lend decisions.

When viewed this way it is hard to envisage that any lack of comparability resulting option the type and magnitude of judgements advocated herein would make a material difference option primary users in the course of making accounting allocation decisions.

Option, principle-based standards developed in conjunction with, and buttressed by, a robust Conceptual Framework will provide the guidance necessary to make virtually all material accounting decisions. Considering the practical inability to have a rule for every possible situation, judgement is a critical part of the process and no one should be afraid of making, defending and accounting reasoned judgements.

Kabureck is a member of the International Accounting Standards Board IASB. Principles written at too high a level result in issues with comparability and other accounting but excessive rules result in unnecessary complexity and invite structuring Having spent 40 years in this space as a US auditor and preparer and for several years as an IASB member, I have the benefit of seeing this issue from several perspectives, and I have no doubt that a principle-based approach to establishing accounting standards is, without question, the better way to go However a principle-based approach is only successful when several pre-conditions are present—some option, some mindset—which is the focus of this article It starts ifrs a robust Conceptual Framework Both the International Accounting Standards Board IASB and the Financial Accounting Standards Board Ifrs have well-developed and reasonably similar Conceptual Frameworks, providing overarching principles that cover many aspects of financial ifrs at a high level.

Among other objectives, they provide guidance to preparers ifrs auditors for situations where standards-level guidance is nonexistent For example, the IASB Conceptual Framework is clear that an accounting policy determination needs to result in a representatively faithful outcome, one where substance over form prevails, is neutral and free of bias, complete in that all available information is considered, the result is verifiable, etc.

If you write another detailed rule in response, this just becomes another workaround opportunity Where does it accounting Here goes Clearly communicate accounting objectives when writing standards This may seem obvious but is much easier said than done. Accounting for equity-settled, grant-date employee stock option awards could hypothetically be written as follows Grant-date employee stock option awards shall be fair valued as of the grant date.

Any such difference in fair value shall be recognised prospectively on a straight-line basis from the modification date to the vesting date Putting aside whether one agrees with this accounting, in plain English words the above passage provides clear principle-based, primary accounting guidance for the entire life cycle of an employee stock option award, including: measurement fair valuerecognition straight lineattribution period grant date to vesting date and presentation first as a liability and later re-classed to equity Furthermore, it provides guidance for when the original option change.

Application of judgement, guided by and within standards-level or conceptual boundaries, is the only plausible solution Judgement exists throughout current accounting. This brings me ifrs my last point Comparability and the primary users of financial statements A prime argument for rule-based standards is that in their absence, there will be a lack of comparability. However, as discussed above, it is not possible to write a rule for every occasion so some judgement and some variability in practice is inevitable But what do we mean by comparability?